It’s a sad fact many 401k plans are bad: the investment choices are poor; the fees are high. People naturally ask if there’s a way to take the money out of the plan to their own account. We all know when you leave your job, you can. It’s called a 401k rollover. In most cases you should do a rollover as soon as you leave.
Can you take money out without leaving your job? Some plans do allow it. It’s called an "in-service withdrawal" or an "in-service distribution." In-service means you are still working for the employer sponsoring the plan. Because some plans allow it, a common suggestion is "ask your plan administrator."
It’s a little more complicated than that.
401k plans must follow the law. The law allows certain things and prohibits certain things. A plan can be more restrictive than the law but a plan can’t be more liberal than the law. If the law allows something, the plan can allow it but the plan doesn’t have to allow it. If the law prohibits something, there is no way a plan can allow it.
So you first have to understand what the law allows and what the law prohibits. If the law doesn’t allow it, don’t waste time asking your plan administrator. If the law allows it, do ask. Maybe your plan allows it; maybe it doesn’t.
When it comes to rolling over money from a 401k plan while still working for the employer, the law allows rolling over:
- Employer contributions: match, profit sharing
- Employee after-tax (not Roth) contributions
- Employee pre-tax and Roth contributions only if the employee reaches age 59-1/2
If the plan cooperates, it’s possible to roll over money in the three buckets above. If you are already over 59-1/2, or if you want to take out the employer match, or if you made after-tax contributions, it’s worth inquiring if your plan allows in-service distributions.
Note after-tax contributions are not the same as Roth 401k contributions. Unlike Roth 401k contributions, earnings on after-tax contributions are still taxed. Not all plans allow after-tax contributions to begin with, let alone withdrawing those contributions in-service. If you are lucky enough to have a plan that allows after-tax contributions AND in-service withdrawal of such after-tax contributions, the money can be rolled into a Roth IRA. It’s a great way to transform after-tax savings into a Roth IRA.
The law prohibits rolling over these contributions from a plan while the employee is still working for the employer:
- Employer safe harbor match or safe harbor nonelective contributions
- Employee pre-tax or Roth contributions before the employee reaches age 59-1/2
Unfortunately most people are going after the last category: employee pre-tax or Roth contributions before reaching age 59-1/2. The law doesn’t allow it. No dice. Don’t bother asking your employer or 401k plan administrator.
Why does the law lock you into an employer plan? The official justification is that the government wants to make sure your retirement savings are saved until retirement and not squandered away before then. But why do you gain the right to squander it away when you change jobs? Because they want to give you an opportunity to consolidate your savings. If you are smart enough to protect your retirement savings when you change jobs, you’d think you are smart enough to protect it at other times too.
Allowing one rollover per year would breathe competition into the 401k world. Instead, we have regulators dancing on the margins about beefing up fee disclosures. Sure it helps adding some pressure to employers and service providers when the fees are out in the open, but disclosed high fees are still high fees. If people don’t have a way out, it adds insult to the injury.